What is the ATO's response to Bamford's case?

The ATO has published
2 statements in response to Bamford's case:

a Decision
Impact Statement setting out the ATO's view on the decision. You
can read the Decision Impact Statement here; and

a Practice Statement
Law Administration setting out how ATO staff will approach compliance
issues under the relevant section of the Income Tax Assessment Act
1936 — that section provides that a beneficiary who is presently
entitled to a 'share of the income' of the trust must include their
proportionate share in their assessable income.[1] You can
read the Practice Statement here.

Although neither of the
ATO's statements are legally binding, they do set out the Commissioner
of Taxation's approach.

Also, the ATO has withdrawn a number
of its statements and rulings — see the withdrawn statements and rulings
under the heading "Administrative Treatment" here.
In particular, from the beginning of the 2010-2011 income year,Taxation Ruling 92/13 (trust dividends and franking) no longer
applies. However, taxpayers may still rely on that ruling for the year
ended 30 June 2010 and for earlier years.

When are the ATO's statements effective?

The ATO's statements
in response to Bamford take effect from 2 June 2010.

What did the High Court decide in Bamford?

The High Court decided
2 key matters — each with an important implication:

What was decided
for the Bamford trust?

What is the implication?

A capital profit made
by the trust was 'income of the trust estate' for the purposes of the
1936 Act for that tax year. That was so because the trust deed gave
the trustee the power to treat capital profit as income.

The income of a trust estate is what
the trust deed says it is.

A beneficiary's 'share'
of income means their proportionate entitlement of the trust estate.
(It does not mean a fixed dollar amount to which they are entitled.)

If a beneficiary is entitled to a percentage
of a trust estate, then their percentage must include the percentage
of the trust's taxable income in the beneficiary's individual income
tax return.

What implications does the ATO see in the case?

The ATO considers that
the following propositions, among others, emerge from Bamford:

trust deeds may treat the
whole or part of a receipt of capital as income — which means that
for the purposes of section 97 of the 1936 Act, the receipt is 'income
of the trust estate'; and

if the trust deed doesn't
specify when a receipt is income, and if the trustee has no power to
characterise receipts, then the question of whether the whole or a part
of a receipt constitutes 'income of the trust estate' is determined
in accordance with trust law principles.

Can receipts be
"recharacterised" the other way
— that is, can income be treated as
capital?

Bamford's case was about a trustee
treating capital as income — which the High Court decided was
allowed.

But, curiously the reverse is not allowed
— in a 1998 case involving ANZ Bank[2], the High Court decided
that a trustee was not allowed to treat income
as capital. In the ANZ case, the Court said the words of the trust
could not alter the 'character of the moneys in the hands of the trustees'.[3]

In Bamford's case, the High Court did
not comment on whether a trust deed can have the effect of treating
income as capital.

In the ATO's statement on Bamford's
case, the ATO emphasises that even in light of Bamford's case, the
Commissioner does not feel free to consider that the ANZ case was wrongly
decided.

So the position is:

in the ANZ case in 1998, the
High Court decided that a trustee is not allowed to treat
income as capital; but

in Bamford's case in 2010,
the High Court decided that a trustee is allowed to treat
capital as income.

The ATO makes clear that it will
proceed on that basis.

The Commissioner's comments fortify our
suggestion in earlier ClearLaw articles that when in doubt, you should
have your trust deed reviewed by a lawyer.

How will ATO staff apply the law?

ATO staff:

should accept that trustees
and beneficiaries have taken 'reasonable care to comply with taxation
law' if they prepare returns for the 2009-2010 or earlier income years
on the basis that income means income according to ordinary concepts.[4]

should be prepared to look
beyond the distribution statement in a trust's tax return when determining
who should be assessed on the trust's tax net income — that is, they
should not see the statement as the sole basis for an assessment.

should not select a taxpayer
for an active compliance check merely to correct errors in the taxpayer's
tax return which, with the benefit of the Bamford decision, may be seen
to be wrong (unless the taxpayer has made a deliberate attempt to exploit
Division 6 of the 1936 Act).[5]

Tell the ATO what you think

The ATO has invited comments
on the Decision Impact Statement. Responses are due by 28 July
2010. Have a look at the Decision Impact Statement for where to
send your response at the ATO.

More information from Maddocks

For more information,
please contact Maddocks in Melbourne (03 9288 0555) and ask for a member
of the Tax and Revenue or General Commercial Teams.

In addition to our previous ClearLaw
article on the Bamford decision, you can access various ClearLaw articles
for information on discretionary, hybrid and unit trusts — including
tables comparing the features and benefits of each type of trust:

Lawyer in Profile

direct and indirect tax advice on structuring of businesses and transactions;

mergers and acquisitions;

corporate reorganisations;

sale of businesses;

joint ventures;

property developments;

succession planning; and

liquidations.

Anna's clientele has been predominately made up of small to medium enterprises ranging from information technology to property developers, private education providers, accountants and financial advisors.

Prior to joining Maddocks in 2006, Anna worked at Ambry Legal practising in tax and commercial law.

The legal information and commentary on this site is general only.
Documents ordered through Cleardocs affect the user's legal rights and liabilities.
To assess their suitability for the user, legal accounting and financial advice must be obtained.